Tylenol Infant Constipation

The impact of debt

After working with beginning students in finance, I realized that the leverage that allows the debt is not well understood by the whole people. A comment from the author on QuébecBourse Intel and AMD has pushed me to make some clarifications.

You understand why the debts of a company after my opinion the principle of "enough is like not enough." Consider the situation

Intel and AMD, but by simplifying and standardizing the data situation for 2 companies easily comparable:

• Let $ 50G Intel to 11.5g of assets that are funded by $ debt (ie D / A = 23%, real numbers)
• Assume that AMD also has $ 50 billion in assets, but $ 42G are financed by debt (or D / A = 84%, real numbers)

Suppose now that both companies are as profitable as the other one (so we gives the same income and it has the same operating costs). We will also assume the debt service of 5% for Intel and AMD 10% (plus hat because more debt) with a tax rate of 30%. I know there are many hypotheses, but simply to simplify understanding.

Say this year, both companies have released earnings before interest and taxes (EBIT EBIT in French or English) of $ 15G. For Intel, the net profit of $ 10.01G (0.7 (15 - [11.5 * 5 %])). For AMD, it is 7.56 billion dollars.

The first conclusion to draw is that the benefit net of a company made no mention of its productivity and operational efficiency. For this, it is better to use the revenues and EBIT (or EBITDA).

per share, assuming that both firms have identical shares of par value to $ 10 per share, we find for Intel and AMD $ 2.60: $ 9.45. We see a big difference here mainly because of the leverage. Reminder: AMD only needs $ 8 billion of funding per share (800M shares).


Another reminder: no figures here is real, it is pure fiction to explain a phenomenon Financial.


And for real life then?
If we see the return current market reality, it is normal (and healthy for the markets) that the same good performance affects more AMD than Intel. Lorsqu'Intel has published good results, the markets are extrapolated to perform well on AMD. Historically, such a method is not without merit. If the jump in earnings per share was important to Intel, we are entitled to expect something of 2, 3, or 4 times greater in AMD. The same dollar increase in net income for Intel and AMD do not have the same effect on earnings per share. And we know very well that the price of a share is based on earnings per share and not net income.


But the risk associated with debt in all this?
Some will say while it does not make sense because AMD is much more risky (after all 84% of its assets are financed by debt). Or make such a comment is not understanding how the financial markets. We already know the danger of debt from AMD. This risk is already built into the share price. Besides, look at the P / E ratios of two companies based on last quarter output. We find a P / E of 13.6 and 7.2 for Intel for AMD. It therefore gives the markets a more favorable Intel AMD.



So to say that markets are deregulated because AMD was up higher on anticipation that Intel was on good news is false. Intel has announced an increase in its operational performance (which resulted in higher profits). If you consider that AMD was able to have a similar increase, higher earnings per share would have been even more important because of the high leverage of debt.


So you see why I like that my companies have some leverage in their operations. This improves the net without operational improvement. A well-managed company should not be 0 debt, but rather have a reasonable debt that does not endanger the situation of the company. Of course, AMD does not fall into this category. Its debt is ridiculous and dangerous. But a business without borrowing (eg Becker Milk) does not give its shareholders the returns they are entitled.